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A Greener Biofuels Tax Credit

Two weeks ago, I wrote about how Loni Kemp won a Farm Foundation contest for an essay laying out a greener biofuel tax credit. Today in DC, this reward was given with appropriate fanfare. Jeremy Martin at UCS also deserves lots of credit for helping to shape this idea. Here now for your reading pleasure is a short summary of how I would like to see the biofuel tax credits reformed based on all of Loni and Jeremy’s great work.

Summary of a Greener Biofuel Tax Credit Proposal

Policies designed to encourage development of the first generation of biofuels—ethanol from corn and biodiesel from soybeans—were supported with the goals of advancing national energy security, jobs and rural economic development, improved air quality, and superior life-cycle greenhouse gas performance compared to gasoline. Yet actual delivery of those benefits has been vigorously debated and unintended environmental effects of intensive corn and soybean production on polluted waters and degraded soils are well documented.

A growing consensus acknowledges that the next generation of biofuels—from cellulose and eventually from algae—has potential to deliver higher levels of benefits. We expect better life-cycle greenhouse gas performance, improved fossil energy balance, expanded land areas to grow feedstocks within the US, more sustainable farming practices leading to cleaner water and healthier soils, and less effect on food prices. These benefits are by no means guaranteed, however. Policies are needed to ensure that promised benefits materialize and to prevent unintended adverse environmental effects.

Support for corn ethanol tax credits has dwindled because of concerns that promised climate benefits are not guaranteed, because of the recent irrational exuberance in expansion, and because current tax credits duplicate the Renewable Fuel Standard which mandates a minimum market for biofuels. At the same time there is considerable support for tax incentives for cellulosic biofuels based on expectations of superior performance. Thus, guiding the biofuels industry along a green path will also ensure its economic and political survival.

What is missing from current tax policy is a requirement for actual performance in delivering expected environment and climate benefits. To remedy this, we propose to reform the mix of existing federal biofuel tax credits—including the ethanol blender’s credit—into one performance-based tax credit. The actual level of the payment per gallon will vary, according to the sustainability performance scores of the biofuels each biorefinery produces.

Be budget neutral—use savings from phasing out current production tax credits to fund the new greener biofuels tax credit.

The new tax credit will have a value of up to $1 per 76,000 Btu (the energy content of one gallon of ethanol), half of the credit will reward lower carbon fuels, and half will reward other ecosystem services. To make it easier for the value of the credit to get back to the farmers and biorefiners that have to change practices to get higher tax credit payment, the credit will shift the from the blenders—the oil companies and refineries which blend ethanol into gasoline—to the biorefineries which produce biofuels.

Corn ethanol and soy biodiesel producers will be eligible if they employ advanced processes such as renewable power and purchase feedstocks from farmers who are building soil quality and minimizing polluted runoff. Next generation biofuels could earn even more if they vastly reduce their greenhouse gas emissions and rely on perennial feedstocks which require little land disturbance, fertilizer or irrigation.

Climate performance

The half of the new tax credit which rewards carbon performance will be paid in direct proportion to reductions in greenhouse gas emissions, based on the EPA’s calculation of lifecycle greenhouse gas emissions currently being developed for the Renewable Fuel Standard. The refinery’s choice of feedstocks, technology, and management of the direct emissions of the refinery itself will determine their lifecycle emissions. A zero carbon biofuel (100% reduction) will be eligible for the full carbon tax credit of $.50 per gallon. Tax credits will ramp down to $0.00 per gallon for biofuels achieving no reduction of greenhouse gas emissions compared to gasoline. If a facility is grandfathered from the RFS GHG standards and therefore does not have a EPA certified emissions level, then it would be assumed to provide no emissions reductions.

Environmental performance

National biofuels policies currently ignore environmental performance, beyond the minimum greenhouse gas metric in the Renewable Fuel Standard. What is missing is recognition of feedstock farming systems that are kinder to soil, water and wildlife. To earn the second half of the greener tax credit—up to $.50—refineries will want to optimize conservation on the land, and will purchase more sustainable feedstocks. It is critical that the industry not be motivated solely by low price feedstocks, which forces growers to cut corners and ignore conservation opportunities. A performance-based tax policy telegraphs incentives to minimize tillage, fertilizer use, erosion and runoff all the way through the system down to the farmer.

The key environmental elements on which farmers have an effect—soil quality, water quality and wildlife habitat—will be scored for feedstocks.. A simple evaluation tool has been developed by USDA where data is easily entered by farmers or their technical advisors, and scores are determined. The Conservation Measurement Tool will be streamlined to apply specifically to biofuels feedstocks. USDA will develop certification criteria for independent, third-party professionals to assess and annually spot check feedstock environmental scores. Similar evaluations will be developed for forests, wastes and algae feedstocks. Scores must be above a minimum stewardship threshold, and will be averaged for each biorefinery.

The IRS will simply plug in the annual greenhouse gas score and the annual average feedstock environmental scores overseen by EPA and USDA and determine a total tax credit rate per eligible gallon of annual production, up to the maximum of $1.00 per gallon equivalent.

Convertible Tax Credits

Because many innovative biofuel technologies are being advanced by startup companies with limited revenues, allowing conversion of production tax credits to investment tax credits or a direct grant for the first billion gallons of advanced and cellulosic biofuels will facilitate the rapid scale-up of this industry. This approach will also help with the difficult investment climate currently facing this fledgling industry.

Feedstock comes from lands not converted from perennial species to annual crops

Feedstock is not from intact ecosystems like forest, wetland and grassland

Feedstock is not irrigated

No invasive or noxious species

Crop residue is removed at sustainable levels

Biorefineries meet the greenhouse gas reduction threshold for the category of renewable fuel

Feedstocks meet the environmental performance threshold score

Conclusion

U.S. biofuels policy must provide clear and strong incentives for bringing advanced biofuel production on line very quickly. It must provide enough support to the first generation of biofuels to stabilize the industry, but without supporting environmental harm. Policy should reward farmers who grow energy crops, and encourage them to switch from corn and soybeans to perennial biomass. All of this must be done while also strongly steering the entire agriculture sector toward excellence in soil and water protection. A performance-based universal Greener Biofuels Tax Credit is the policy we need.